September, 2004

START YOUNG, AND COAST YOUR WAY TO FINANCIAL INDEPENDENCEby LARRY

Most of us wait till middle age to begin saving and investing for retirement. While that's usually not too late, by waiting we forego our best chances of having real wealth almost without really trying.

If you delay till setting aside funds for one's leisure years is more convenient, as I did, it takes much more money and/or a higher return to accomplish the same level of financial independence. In fact, that way it is difficult to catch up with what can be accomplished by the young person who has had a steady, consistent approach to investing.

Currently employees can set aside $3000 a year in tax-deferred IRAs ($3500 if the job-holder is already approaching retirment). The age most U.S. workers may now retire with full Social Security benefits is 67.

The annualized S&P 500 Index total return over the last 30 or more years has been about 10%.

If, instead of investing when young, our Late Starter (I), beginning at age 42, manages with much time and care in handling his or her tax-deferred account portfolio(s) to get even a 15% compound annual return and invests $3000 a year for the next 25 years, the age 67 retirement total, for an initial investment of $75,000, will be $737,136. Though not to be sneezed at, after inflation and taxes, this may not buy all that much.

By contrast, our Early Sprinter, who sets aside $3000 a year through a tax-deferred account for just 10 years, starting at age 18, and gets just a 10% average compound annual return on his $30,000 total investments, will wind up at age 67 with $2,163,946.

Thus, a married couple, each partner of whom begin such an early investment plan, can wind up with a household retirement nest egg of over $4,000,000. If they have also gotten retirement annuities or pensions through their work and Social Security benefits, they might enjoy their leisure years with the equivalent of over $5,000,000, through relatively little special effort.

Results of Early Investment at a 10% Average Return

Age

NewInvestmentin Tax FreeAccount(s)

CumulativeTotal

18

$3000

$3000

19

$3000

$6300

20

$3000

$9930

21

$3000

$13,923

22

$3000

$18,315

23

$3000

$23,147

24

$3000

$28,462

25

$3000

$34,308

26

$3000

$40,738

27

$3000

$47,812

28

-

$52,594

29

-

$57,853

30

-

$63,638

31

-

$70,000

32

-

$77,002

33

-

$84,702

34

-

$93,173

35

-

$102,490

36

-

$112,739

37

-

$124,013

38

-

$136,414

39

-

$150,055

40

-

$165,061

41

-

$181,567

42

-

$199,724

Age

NewInvestmentin Tax FreeAccount(s)

CumulativeTotal

43

-

$219,696

44

-

$241,666

45

-

$265,832

46

-

$292,415

47

-

$321,657

48

-

$353,823

49

-

$389,205

50

-

$428,125

51

-

$470,938

52

-

$518,032

53

-

$569,835

54

-

$626,818

55

-

$689,500

56

-

$758,450

57

-

$834,295

58

-

$917,725

59

-

$1,009,497

60

-

$1,110,447

61

-

$1,221,492

62

-

$1,343,641

63

-

$1,478,005

64

-

$1,625,804

65

-

$1,788,386

66

-

$1,967,224

67

-

$2,163,946

With 20/20 hindsight, it seems that young people's natural concern with having just the right career to suit their values and personalities may to many count for less in the end than having started early and maintained a lifetime investment plan.

Yet if the reader, like me and so many of us, has not had the good fortune or forethought to get started with an investment approach rather promptly, soon after leaving home, there is reason not to be disheartened. While we are quite young, it is usually all we can manage just to go to school or pay monthly bills while living in some fairly modest accommodation, perhaps shared with one or more roommates. Later, there are frequently student loans to be paid off. Early jobs seldom compensate us so well that there are thousands of dollars a year left for investing.

But, despite the apparent grimness of the comparisons above between our Late Starter and Early Sprinter, the good news may be that, if one begins regular investments when more established in a career, the funds are then more likely to be available for an accelerated program of saving and investing.

Thus, if another Late Starter (II) begins investing $9000 a year at age 42 and is careful with his or her stock or mutual fund selections, continuing the same rate of regular investments and getting a compound average return of 15%, he or she could have a million dollars by age 62 and wind up with $2.2 million at age 67, despite having to play catch-up to the relatively easy results for our Early Sprinter.

So, it often is not too late for the older individual to begin a powerful investment plan. And please note: if a 15% annual return sounds like setting your Olympic bar a bit too high, there is still hope. You may, instead, invest such that the combination of your actual return plus new investments is equal each year to the increase that would have resulted from a $9000 annual contribution at 15%, and then will achieve essentially the same result. (This approach, though, often is not practical much above $500,000, as the annual increases to meet a 15% growth rate can quickly get beyond the average earner's capacity to add in new funds, especially in a bear market.)

For some reason, Americans (with an average savings rate of just 2%) don't seem to "get" the value of early and significant setting aside and investing of their hard-earned dollars. Ironically, the People's Republic of China, with a 40% savings rate, has gotten on this savings bandwagon in a big way. As can be seen from the above Late Starter vs. Early Sprinter comparisons, assuming a significant part of Chinese savers' holdings are in the stock market, by mid-century there could be a lot more Chinese than U.S. millionaires, and they might then be better positioned than our citizens to dominate the financial world. If things continue as they are, in 20-30 years many Chinese will be able to afford nice vacations in our country, but far fewer of us will be able to sightsee in theirs.

But you need not follow our national trends. Whether out of patriotism or concern for your own personal goals, why not start investing as early as possible and so best reap the magical rewards of compound total returns? With an early enough start, you may then essentially coast your way to financial independence.

A young person interested in beginning his or her own investment plan might consider using a mutual fund.

Here are several no-load equity mutual funds generally rated by CBS MarketWatch to be low risk and which also have long-term compound returns of 13% or better.

Fund

Symbol

10-YearAnnual Return

ExpenseRatio

RecentPrice

Meridian Value

MVALX

19.12%

1.11%

$38.28

Mairs & Power Growth

MPGFX

17.22%

0.75%

$64.47

Thompson Plumb Growth

THPGX

16.89%

1.07%

$45.59

Meridian Growth

MERDX

13.55%

1.06%

$33.14

Royce Premier

RYPRX

13.49%

1.16%

$13.80

(Data is as of 7/31/04)

Of course, past returns are no guarantee of future performance, either for the market as a whole or these funds specifically. But it is clear that starting early puts one ahead in this venture. Size (of one's initial investment) definitely matters, but (relative) youth (when you begin an investment plan) matters even more.

Incidentally, this newsletter makes a point of touting the advantages of value investing. We are happy, therefore, when there are opportunities to recommend other good sites that emphasize this theme. Our latest find of this type is an excellent one, Vinvesting. Here you may read or hear interviews with great investors, join forums on value investing topics, learn of fine related books, discover links to articles on true stock bargains, and more. I encourage the reader to check Vinvesting for himself/herself and then, if appropriate, to add it to web site favorites, as we have done.

DISCLAIMER

Larry is not a professional. Don't take him seriously!

Actually, the investment article provided here is for general information only and should not be considered as professional advice, a solicitation to buy or sell any security, or the Word of God. Investors are encouraged to do their own research while considering their personal goals and circumstances, or consult their own professional financial advisors, before making investment decisions. Neither Larry nor LARVALBUG will be liable for any losses sustained by any visitor to this site.

(Disclosure statement: Larry and Val have holdings in some of the suggested assets but do not "make a market" in any of them and do not derive any direct benefit from recommending them, except perhaps for a bit of smug self-satisfaction.)